Monday, June 22, 2009

Obama's regulatory overhaul - summary

I've been reading up on Obama's proposed regulatory changes lately and decided perhaps I should try reading the actual draft. Let me tell you, I'm so glad there are trained professionals with acute insomnia who are able to do these things for us. But here's the gist of what he wants to do:

Create a Financial Services Oversight Council
Purpose: Information sharing, coordination, risk identification, resolve jurisdiction disputes, advise Federal Reserve on "at-risk" companies.

Membership: Secretary of Treasury (chair), Chair of the Federal Reserve, Director of National Bank Supervisor, Director of Consumer Financial Protection Agency, Chair of SEC, Chair of CFTC, Chair of FDIC, Director of FHFA.

My take: Sounds like a Financial Dept. of Homeland Security. Not to be a pessimist, but how well did that work? Is there a need for better communication? Yes. Will this help? No. Information that goes up an organization to the top before going across to another a) takes too long, b) is subject to too much filter, c) is subject to politics, d) relies too much on an analyst in one group to recognize something important to another group, and e) does little to improve the actual act of regulation.

Implement higher level of regulation on large, interconnected financial firms (ie. the Too-Big-To-Fail).
Purpose: Set greater restrictions and add higher level of oversight on companies big enough to rattle our economy if they fail, including parent companies and subsidiaries, US-owned or otherwise.

Responsibility: Federal Reserve

My take: This seems like a decent idea. If they're that big they should be watched more closely, since they obviously don't want to watch themselves. This could discourage companies from getting into this category, though, which may have negative, unintended consequences. It may also make some companies find creative ways around this, as well.

Strengthen regulatory requirements
Purpose: Increase capital requirements, regulate executive compensation and incentives, review the accounting rules, strengthen separation between banks and their affiliates.

Responsibility: Various focus groups.

My take: This may not be a bad idea, either. They claim they want to change executive incentives to help them look after the company's long-term interests better, which I could support. However, this seems like veiled language for doing away with high pay for executives. I may disagree with the pay some of these people get, but it shouldn't be up to me--or the government. If the stockholders want it, then so be it. Our companies have to stay competitive. Also, capping pay in just one industry is not fair. Is anyone talking about capping pay in Hollywood? I don't agree with that either, but if you do it for one you have to do it for all.

Close loopholes in bank regulation
Purpose: Create a National Bank Supervisor to regulate all financial institutions. Close loopholes in regulations. Require further separation between companies and any bank affiliates.

Responsibility: National Bank Supervisor

My take: I'm not in favor or creating new government entities, but if there are loopholes to be closed, then close them.

Eliminate the SEC programs for consolidated supervision
Purpose: Move supervision in these cases under the Federal Reserve Board

Responsibility: Federal Reserve

My take: I can take this one on faith, though I'm not sure how this improves things.

Require hedge funds and private investment pools to register with SEC
Purpose: Provide some oversight into a group that has previously been immune--and may have helped bring about our financial collapse.

Responsibility: SEC

My take: I'm not sure what "registration" means and what that alone will do to make this group behave. But if it works, fine with me.

Reduce susceptibility of Money Market Mutual Funds to runs
Purpose: Provide some additional measures to keep the system from falling apart so easily.

Responsibility: SEC

My take: Probably not a bad idea, so long as it goes just far enough and no further. Can you tell I'm not a fan of government intervention?

Enhance oversight of insurance sector
Purpose: Set up Office of National Insurance to gather information, develop expertise, negotiate international agreements, and coordinate policy.

Responsibility: Treasury Dept.

My take: This is too vague. I know why it's in here, but what this will do to keep AIG messes from happening again is not clear.

Determine the future role of Government Sponsored Enterprises
Purpose: Maintain, stabilize, strengthen and propose recommendations on Fannie Mae, Freddie Mac, and the Federal Home Loan Bank system.

Responsibility: Treasury and HUD

My take: May I make a recommendation or two right now? Clean all of these up and cut off their campaign contributions to Congress. Remove from oversight positions anyone who has taken money from these entities.

Strengthen supervision and regulation of securitization markets
Purpose: Keep companies from passing the risk off to others, make performance of loans a consideration in any compensation. Increase transparency and standardization of these markets. Increase regulation and integrity of credit ratings. Reduce government regulator dependency on credit ratings in regulatory efforts.

Responsibility: Federal banking agencies, SEC

My take: This one may be getting a little too paranoid. These companies should have known better. And if we increase the integrity of credit ratings, why shouldn't the regulators be able to rely on them more?

Create regulations around OTC derivatives
Purpose: Prevent markets in derivatives from creating systemic risk, promote transparency, prevent market manipulation and fraud, and make sure derivatives are not marketed improperly to inexperienced traders.

Responsibility: Unknown

My take: This does seem to be at the heart of the matter. And while it's probably a good idea to close the barn door after the horse has come home, the real problem is spotting new dangers from new financial instruments that the government is unfamiliar with, just like Credit Default Swaps were prior to the recession.

Harmonize futures and securities regulation
Purpose: Bring regulation of these two areas closer together.

Responsibility: CFTC, SEC

My take: I don't see how this could be a bad thing.

Strengthen oversight of systematically important payment, clearing, and settlement systems and related activities
Purpose: To bring oversight of these systems under government regulation.

Responsibility: Federal Reserve

My take: I don't know why this is necessary. I'm not aware of these systems breaking down or somehow adding to the financial problems we experienced. As one would expect, if it's not needed, I don't see a reason to change.

Strengthen settlement capabilities and liquidity resources of systematically important payment, clearing, and settlement systems
Purpose: Provide the above systems with access to Reserve Bank accounts, financial services, and the discount window.

Responsibility: Federal Reserve

My take: This seems like a move to make the Federal Reserve able to react more quickly to emergencies in the financial system. It may very well be that increased speed may have made a difference in the past financial crisis, but I've found that most computer systems are still hampered by the speed of the human decision makers. Is this component necessary?

Create a new Consumer Financial Protection Agency
Purpose: Supervise and protect consumers of credit, savings, payment, and other consumer financial products and services, and to regulate providers of these products and services.

Responsibility: CFPA

My take: Do we need a new government agency for this? Isn't this just attacking the same problem from the other end? If the other regulators do their jobs properly no one will be selling fraudulent or misrepresented financial products to consumers. Why not just expand the mission of the Federal Trade Commission? We don't need more bureaucracy. We just need consumers who use their heads.

Reforms of Consumer Protection
Purpose: To promote transparency, simplicity, fairness, and access in financial products and services.

Responsibility: CFPA

My take: Any time the government gets involved you can forget about transparency or simplicity. And "fairness and access" is part of the reason why we're in this mess. Remember, the government is one of the main reasons why any mortgage requires you sign half a ream of paper. That was to make things simpler and more clear, remember? I also don't trust this administration to judge "fairness", as so far it seems rather one-sided and arbitrary in such decisions.

Strengthen investor protection
Purpose: Provide greater transparency in investor disclosures, increase fairness for investors, and increase accountability. Establish a Financial Consumer Coordinating Council. Create a permanent role for the SEC's Investor Advisory Committee. Strengthen employment-based and private retirement plans. Encourage saving.

Responsibility: SEC, FSOC

My take: Thank you, Bernie Madoff. This is all your doing, isn't it. Unfortunately a few bad apples have ruined for everyone. Lots of people got hurt, and whenever that happens they start looking to the government to save them from themselves. Look folks, the stock market is risky. People who promise you phenomenal returns at low risk are LYING! Avoid them! Report them! We don't need the government to do this!

Create a resolution regime for failing companies
Purpose: Provide for a resolution regime modeled on current Federal Deposit Insurance Act regimes to avoid messy failures of companies.

responsibility: Not known

My take: Uniformity could be good, unless the result is uniformly bad.

Amend the Federal Reserve's emergency lending authority
Purpose: Require written permission from the Treasury Secretary for extending credit to distressed companies.

Responsibility: Federal Reserve, Treasury Secretary

My take: Sounds like a good idea to me. It might not hurt to give Congress some say, as well.

Strengthen the international capital framework
Purpose: Review, modify and strengthen existing international frameworks.

Responsibility: Basel Committee on Banking Supervision

My take: Probably a good idea, but this is rather vague. Do you have something specific in mind?

Improve the oversight of global financial markets
Purpose: Promote standardization and improved oversight over derivative markets.

Responsibility: Other nations

My take: Again, sounds good.

Enhance supervision of internationally active financial firms
Purpose: Establish and support international supervisory colleges to supervise global financial firms.

Responsibility: Other nations

My take: Sounds good. Just don't let the UN do it.

Reform crisis prevention and management authorities and procedures
Purpose: Improve resolution of global financial firms. Improve information sharing and implement FSB principles for cross-border crisis management.

Responsibility: BCBS

My take: Seems logical. I would hope that the international community do some sort of "lessons learned" from this mess.

Strengthen the FSB
Purpose: Further establish international standards.

Responsibility: FSB

My take: If this would have helped avert the crisis, then go for it.

Strengthen and expand regulations
Purpose: Improve liquidity risk management, improve oversight abilities, determine international requirements for large financial firms, and encourage other countries to monitor hedge funds.

Responsibility: BCBS, FSB, other nations

My take: Good idea.

Introduce better compensation practices
Purpose: Encourage other nations to regulate executive compensation and incentives to discourage risk-taking and look after long-term shareholder value.

Responsibility: Other nations

My take: If we can get everyone to do this, great. Otherwise we should not adopt this unilaterally and create a "brain drain". I don't see any other country agreeing to this, frankly.

Promote stronger standards in regulation, money laundering/terrorist financing, and tax information exchange
Purpose: Improve the ability to track financial crime internationally.

Responsibility: All nations, FSB

My take: It lack specific, but that it's in here at all suggests the administration is taking the War on Terror seriously.

Improve accounting standards
Purpose: Promote global accounting standards.

Responsibility: International standards groups

My take: I find it interesting that this is in here. This implies that accounting standards are...well, not standardized. I was not aware of this.

Tighten oversight of credit rating agencies
Purpose: Improve oversight in this area

Responsibility: Other nations

My take: Again, I didn't know this was a problem, but if we're doing it, so should everyone else.

My opinion on the entire draft: Individually most of these points make sense. Taken together I start to worry. My first question is "who pays for all of this?" We're creating several government agencies, placing more power in the hands of the government, and even expecting the government to police financial infrastructure. This won't come cheap. Is this coming out of taxes, or will businesses be expected to shoulder the burden?

Sarbanes-Oxley already placed a significant amount of extra overhead on companies for arguably little return. Heaping more regulations on business during a recession will make recovery all that much more difficult. The damage is already done, and most companies have already cleaned house on their own.

I am also concerned about the scope of the changes. Rather than focus in on a few key trouble spots, the administration is attempting to shotgun every economic component that may have played a part in our current financial woes. Everyone, that is, except the government itself. Even though the government arguably played a part in causing the crash, they show no interest in examining or regulating themselves.

The majority leadership, in spite of promises, refuses to investigate accusations of corruption among their own membership. The people who supposedly were supposed to see all of this coming failed to do so, yet retain their positions of oversight. Some of them even benefited from cozy relations with the very entities they were supposed to be policing. Yet the answer is more of the same government that failed to catch it last time. "You all screwed up," they seem to be saying, "but we get a do-over. You caught us off guard, but give us a bunch more people and regulations to enforce and we'll get it right next time."

I'm also worried about the amount of power being formalized and centralized by this proposal. The government has taken unprecedented steps in attempting to get control of the economy and steer us back on track. But rather than trying to put the genie back in the bottle, they trying to make those step the default position going forward. They also are trying to take some power away from the states. The states, most of which are cash-strapped at the moment, are likely to welcome temporary relief from some of these burdens. However, it will be difficult to get that control back down the road.

Are some of the proposed changes necessary? I think so. Is all of it necessary? No. Either this is an overkill strategy in hopes they at least get some of the things they wish for, or they want to put in place the mechanisms to micromanage the economy from here on. It's too much.

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